Australian inflation – Higher than expected inflation may mean no more rate cuts

Analysis

Australian inflation – Higher than expected inflation may mean no more rate cuts

Chart of the Week

by Gabriel Stein in London

Mon 28 Oct 2013

What the chart shows: The chart shows headline inflation, quarterly and four-quarter change.

Why the chart is important: The Reserve Bank of Australia has a 2-3% medium-term inflation target. Some near-term deviation is permitted if the target will still be reached over the policy-relevant horizon. Since the Great Recession began, inflation has slowed from 5% in the year to Q3 2008 (the CPI is reported quarterly) to 1.2% in Q2 2012. This enabled the RBA to cut its target cash rate from 7% to 2.5%; although by global standards this remains high. Since 2012, however, the rate has picked up again. Until recently, the general view was that the RBA would still cut interest rates twice more in 2014. But the latest inflation number – 1% in the third quarter of 2013 and 2.3% over the past four quarters – even if a tad down from the previous two quarters’ annual rates – has dampened rate cut expectations. This is more so since the higher prices are accompanied by a weaker Aussie dollar, which will further stoke inflation. In addition, interest rates in the rest of the world are unlikely to fall further. A sudden drop in inflation or a sharp slowdown in activity could spur the RBA to cut interest rates again. But this is now much less likely.